Navigating U.S. Regulatory, Tax & Compliance Risks

July 2017

President Trump’s pro-energy stance— reinforced by his appointment of former ExxonMobil Chief Executive Rex Tillerson as Secretary of State and former Texas Governor Rick Perry as Energy Secretary—is widely perceived as a boon for the oil & gas industry, but political gridlock and ongoing controversy are starting to take a toll. From pending tax reform to a series of executive orders that elicited mixed reactions, oil & gas companies are taking extra caution as they figure out how to navigate the choppy waters ahead.

As mentioned earlier, 41 percent of companies cite risks associated with the new administration in their 10-Ks. Nearly one-fifth of companies (18 percent) mention President Trump’s name a total of 31 times.

The legislative and regulatory changes that are most top of mind for the industry include tax, environmental, accounting and industry-specific regulations at the federal, state and local levels—all of which have the potential to interrupt and/or delay current and future business operations and planning.

Talk of Tax Reform Spurs Anxiety

With tax reform on the table—and the White House’s initial proposed tax framework announced—anxiety is high for what changes to the current federal tax policy may mean for businesses in the year ahead. Eighty-nine percent of oil & gas companies cite changes to federal tax deductions and/or tax policy as a risk—a significant jump from 70 percent in 2016 and the highest in this study’s history.

While many of the proposed reforms at the federal level would be favorable to the industry, the implications of some, like the Border Adjustment Tax included in the House GOP Tax Reform Blueprint, are less clear. Then, of course, there is uncertainty around how much of the current administration’s tax reform agenda will make it from proposal to legislation. [See our Border Adjustment Tax explainer for energy companies here.]

One particular area of concern is the elimination of certain federal tax incentives that have historically played a significant role in encouraging greater investment in oil & gas exploration and production. In the 2017 BDO Energy Outlook Survey, energy CFOs ranked intangible drilling costs and percentage depletion as the top tax issues for the sector, cited by 42 percent and 32 percent of survey participants, respectively. Uncertainty over whether these tax breaks will remain available in the future may have been sparked by new regulation from the IRS issued in October dealing with the allocation of liabilities from a partnership to a partner. On April 21, the new administration issued an executive order to review this tax regulation, among other “significant” tax regulations issued on or after January 2016, to determine whether it places an undue financial burden on taxpayers. Just two of the oil & gas companies in our study published their 10-K filings after April 21, which may explain the significant increase in concern despite the business-friendly tax environment.

“For an industry that has used federal tax laws and regulations to help spur growth and investment, the possibility of a tax reform that may change or eliminate some of these long-standing regulations constitutes a very real fear. However, the bigger concern is the uncertainty around what tax reform will look like—and whether significant changes to tax policy will pass in the first place—which makes planning for future investments a challenging balance of foresight and caution.”

Clark Sackschewsky
Tax managing principal in BDO’s Houston office

The Pressure to be Environmentally Friendly

Since the first year of this study in 2011, environmental regulation has consistently been cited by more than 90 percent of oil & gas companies. This year marks the highest percentage of companies reporting concerns related to the environment at 99 percent.

Ninety-one percent of oil & gas companies specifically worry about the impact of climate change and greenhouse gas (GHG) legislation on their operations, up from 85 percent in 2016 and 82 percent in 2015. Meanwhile, 85 percent worry about the liabilities and costs for pollution resulting from current or previous operations.

Ongoing debate about the hydraulic fracturing process and whether it adversely harms the environment has also led 82 percent of companies to cite legislation that could establish an additional level of regulation and permitting as a risk. Forty-five percent additionally worry about the impact of government investigations into the effects of fracking, including drinking water and seismic activity studies, on various oil & gas exploration activities.

This heightened concern exists despite the rollback by the new administration of key Obama-era clean energy initiatives, cited by more than a third (35 percent) in their most recent filings. While oil & gas companies look to lawmakers for guidance, the court of public opinion weighs just as heavily.

Keeping Accounting Ducks in a Row

Three-quarters of companies (79 percent) cite the ability to maintain effective accounting and internal controls and adapt to changes in financial reporting and accounting standards as a risk, down slightly from 2016 and 2015 levels (84 percent both years), but up drastically from 2014 levels (57 percent). In addition, 64 percent of companies cite specific SEC requirements on reporting oil & gas reserves as a risk factor, down from 68 percent the previous year. Concerns around the Volcker Rule, a section of Dodd-Frank that could hamper commodities hedging, dipped to 63 percent from 66 percent in 2016.

These slight decreases year over year may be a reaction to the new administration’s efforts to repeal disclosure requirements for the energy industry in its first few months. President Trump’s February executive order to roll back a SEC regulation that would have required oil & gas and mining companies to disclose the payments they make to foreign governments was one of the first major reporting changes under the new administration. The Financial CHOICE Act, passed by the House in June, would undo significant pieces of Dodd-Frank, including the Volcker Rule.